By any measure, $104 billion is a lot of money. That's the
dollar value of share buyback announcements made in February --
the largest monthly figure since these flows were first tracked
20 years ago.
It was also nearly double the amount from a year earlier,
according to money flow tracker TrimTabs Investment Research.
(Companies make share buyback announcements throughout this year,
but February is typically the high watermark as companies release
full-year financial results.)
Companies in the S&P 500 spent $564.7 billion on share
repurchases over the past 12 months, which was a year-over-year
increase of 18%, according to FactSet Research. In fact, 72% of
all companies in the index bought back shares in the fourth
quarter of 2014.
Make no mistake, the powerful waves of buybacks are a clear
positive for stocks -- in the near-term. For proof, look no
further than the five-year chart for the PowerShares Buyback
Achievers ETF (NYSE:
Simply put, the more than $2 trillion in cash that has been
returned by S&P 500 companies since 2009 has been a key
factor behind the bull market's extended run. Said another way, a
steady reduction in shares outstanding has helped earnings per
) grow at a robust rate, surely more than the tepid global
economic environment would normally dictate. And the fact that
the recent wave of fresh buyback commitments should underpin even
greater reductions in shares outstanding means this bull market
is likely to continue.
Nobody is disputing that buybacks can be a good thing for
companies and shareholders (the operative word being "can"). In
fact, we at StreetAuthority are such believers in the power
shareholder-friendly practices like buybacks can have on total
returns; we have an entire premium newsletter devoted to the
. Indeed, my colleague Nathan Slaughter, Chief Strategist of this
newsletter, has been able to find some of the most impressive
gains we've seen by investing this way.
But another set of voices is emerging on the topic. And these
voices express concern that companies have become so enamored
with share buybacks that they are losing sight of the need for
long-term investments in operations.
As Euro Pacific Capital's Peter Schiff recently said, "Money
spent on buybacks is not available to purchase new plant and
equipment, to fund research and development, or to spend on
marketing and logistics. In that sense, buyback spending
generates current earnings at the expense of future
Meanwhile, companies in other regions still have a primary
focus on long-term investments, and not buybacks. Analysts at
Citigroup note that for every dollar spent on buybacks in Japan,
another $5 is spent on business investment (also known as Capital
Expenditures or "CapEx").
In Europe, companies spend twice as much on CapEx as they do
on buybacks. In the United States, funds earmarked for CapEx and
buybacks are roughly the same. The relative emphasis in the
United States is understandable. "For now, the market wants cash
cows not CapEx addicts," add Citigroup's analysts.
Even when a company's board would like to retain a focus on
long-term investments, there is so much pressure to pursue
buybacks that real harm can be done. For example, auto maker
General Motors Co. (NYSE:
) has been working for the past half-decade to get its fiscal
house in order. Auto sales -- and operating cash flow -- are
impressive right now, but GM and its peers know that the auto
industry has had an impressive run of annual sales growth, and
the day will surely come when auto sales hit an air pocket.
So you can imagine GM's reticence to use its cash on anything
other than product development, pension funding, marketing
expenses and other financial needs. Still, the company now plans
to buy back billions of its own stock, a move made in response to
demands from activist investors.
Never mind that GM still has not fully funded its pension,
that it is on the cusp of new contract discussions with labor
unions, that it is still dealing with the costly fallout of a
fatal ignition switch problem, and as noted, may eventually be
looking at a fresh pullback in auto sales. In that light, pushing
GM into a share buyback program almost seems reckless.
The key factor to consider: Can companies pursue major buyback
programs and still ensure that the right investments are being
made for long-term growth?
Dow component 3M Co. (NYSE:
) points the way to how things should be done. In his look at the
company in the January issue of
, Nathan Slaughter notes that 3M has spent a cumulative $11
billion on buybacks in the past two years. Yet the company is
still committing funds to maintain 3M's innovative product
As Nathan recently wrote, "3M has been plowing a nickel of
every dollar in sales back into research to develop the
breakthrough new products and technologies of tomorrow. I'm glad
to see that management is aiming to up its R&D commitment (to
6% of revenues) in the years ahead to stay competitive."
Risks To Consider:
Although I'm cautioning about some companies that seem to be
buying back stock at the expense of all else, as long as the
stock market rises ever higher, share buyback announcements are
likely to be applauded by investors.
Action To Take -->
Share buybacks are generally a good thing, but they can be taken
too far. Companies -- and the activists that pressure them -- are
often spending almost all of their cash flow on dividends and
buybacks, but that invites the risk of longer-term
under-investment in the core business. As you look to invest in
companies (like Nathan's 3M pick) with an impressive,
shareholder-friendly track record, look more deeply into the
financial statements to ensure that R&D spending as a
percentage of sales is being maintained.
Share repurchases -- done the right way -- are such a
powerful tool that StreetAuthority devoted an entire newsletter
to identifying shareholder-friendly firms that pay dividends and
buy back shares
. These stocks, which we call
stocks, have proven to beat the market -- even during the 2008
financial crisis and the dot-com bubble -- and serve as reliable
income investments. To find out more about